Question

On July 1, 2017, Moresan Company sold special-order merchandise on credit and received in return an interest-bearing note receivable from the customer. Moresan will receive interest at the prevailing rate for a note of this type. Both the principal and interest are due in one lump sum on June 30, 2018.

On September 1, 2017, Moresan sold special-order merchandise on credit and received in return a zero-interest-bearing note receivable from the customer. The prevailing rate of interest for a note of this type is determinable. The note receivable is due in one lump sum on August 31, 2019.

Moresan also has significant amounts of trade accounts receivable as a result of credit sales to its customers. On October 1, 2017, some trade accounts receivable were assigned to Indigo Finance Company on a non-notification (Moresan handles collections) basis for an advance of 75% of their amount at an interest charge of 8% on the balance outstanding.

On November 1, 2017, other trade accounts receivable were sold without recourse. The factor withheld 5% of the trade accounts receivable factored as protection against sales returns and allowances and charged a finance charge of 3%.

Instructions

How should Moresan account for subsequent collections on the trade accounts receivable assigned on October 1, 2017, and the payments to Indigo Finance? Why?

Short answer

Journal entry will includecollecting cash and remittance made to the financing company.

Step-by-step solution

Definition of Interest Charges

The moneylender collects some additional fees from the borrower against the use of money; such fees are considered interest charges.

Collection of Trade Accounts Receivables

The collection of trade accounts receivables must be reported as debit of cash and credit of accounts receivables. It is assigned to Indigo Finance. Therefore, the collected amount must be allocated to Indigo Finance until the advance gets settled. The allocation must include principal and the interest of 8% on the outstanding balance.